Tax Shifting

WHEN THE CHIEF EXECUTIVE OFFICERS from some of Canada’s most influential corporations encourage government intervention to tackle climate change, you know change is in the air. And in this case, the change involves a tax shift, a green tax shift, that is.

In classic economic terms, a tax shift involves the linear movement of taxes from one source to another, or from one payer or item to another. The Goods and Services Tax illustrates how a tax is shifted in a straight line from producer to manufacturer to consumer. Linear economic models, however, run counter to the cyclical nature of ecological systems, which replenish resources to counteract the loss of the original resource.

Taxes, some argue, should be similarly cyclical. This is the idea behind a green tax shift. The revenues generated by these taxes aren’t additional; instead, they are shifted to reduce other taxes (e.g. income tax), or even offset the green taxes themselves. Furthermore, green tax schemes involve a shift from taxing good things (e.g. income, profits) to taxing bad ones (e.g. pollution, wasted resources), in order to encourage more environmentally sound behaviour.

According to Alan Thein During and Yoram Bauman in their book Tax Shift, “In general economics tells us that when you tax something, you get less of it. … Our problem is that we tax things we want more of, such as paychecks and enterprise, instead of things we want less of, such as toxic waste and resource depletion.” They conclude, “… tax shifting is a revolt that makes sense: it gets taxes off our backs and onto our side.”

Peter Victor, a professor in the Faculty of Environmental Studies at York University, points out another feature of green taxes: “Economists will tell you that the ideal tax is one that does not change behaviour. I would say that green taxes are mostly about changing behaviour.” He points out that there is a disconnect between green tax shifting and traditional economics. “As soon as you put these things in the hands of ministers of finance, they set the green tax to meet a revenue target instead of a behaviour target.”

This tendency by government comes about because most economists put their faith in the market. But markets, according to Paul Hawken, author of The Ecology of Commerce are ill-suited to protect the environment. In his seminal book, Hawken asks, and answers, this question: “If the free market is so efficient, why, as it affects the environment, is the overall economy so inefficient? The answer is simple: Markets are superb at setting prices, but incapable of recognizing costs.”

Health care expenses, land remediation, waste disposal and other intangible consequences of commerce, for instance, are not included in the price of products. Similarly, we take freely from the atmosphere and oceans, and then use them as our dumping grounds, oftentimes at no cost. Then we’re appalled when money spent cleaning up environmental disasters contributes positively to the Gross Domestic Product (GDP), as in the case of the Exxon Valdez spill, which improved Alaska’s GDP.

Presumably, it is this perverse market behaviour that prompted some European countries to alter their taxation policies. In the early 1990s, Finland, Sweden and Denmark implemented new taxes and revised existing environmental taxes to shift the revenue they raised from polluters to reducing income and capital taxes. Almost a decade later, in 1999, a second wave of tax shifting appeared in Germany, France, Italy and the UK. The success of these schemes proves that tax shifting can work.

Germany shifted taxes from labour to energy, thereby lowering fuel use by five per cent. Finland’s carbon tax reduced emissions by seven per cent in eight years. Sweden raised taxes on carbon and sulphur emissions, thereby cutting taxes on personal income and shifting two per cent of the country’s total tax revenue. Finally, Denmark is a leader in that it collects over six per cent of its total tax revenue from green taxes.

Although several governments have added green taxes in recent years, since the flurry of activity in the 1990s, few jurisdictions have shifted them. Dr. Hans-Jochen Luhmann of Germany’s Wuppertal Institute for Climate, Environment and Energy, explains that creation of the European Union (EU) dampened Europe’s appetite for tax shifting. Under EU rules, any domestic energy taxation may constitute a trade disadvantage. As a result, emission trading, rather than taxation, has become the primary tool to address climate change in that part of the world.

In Canada, the situation is different. William Rees, a professor of Community and Regional Planning at the University of British Columbia and co-author of Our Ecological Footprint, observes, “After three decades of trying to convince the public of the evil of taxes, governments are loath to talk seriously about large tax increases in some areas (e.g. consumption taxes, resource depletion taxes, carbon taxes) even if, as in most tax shifting schemes, these were compensated by lower income and value-added taxes, and the whole process would benefit the economy in myriad ways.”

Furthermore, because many governments fail to understand tax shifting, they often fall short on implementation. Revenue raised by Ontario’s tire tax, for instance, goes into general revenues, rather than being directed at environmental initiatives. This experience contributes to public skepticism and resistance to the use of taxation for environmental protection.

“People don’t believe in the word ‘shift’,” declares Herman Daly, a University of Maryland professor and self-described eco-economist who has been studying ecological economics for over 40 years. “You say ‘tax shift’ and they hear ‘additional taxes.’ There’s a lack of faith in the government to deliver on the tax cut side. They’ll just add taxes.”

Convincing a skeptical public isn’t the only challenge to the adoption of green tax shifting. Others include concern about its effectiveness to modify environmental behaviour, combined with the perception that any environmental taxation would interfere with international competitiveness.

However, polls taken in the late 1990s in both the United States and Europe, according to David Malin Roodman, author of The Natural Wealth of Nations, show overwhelming support (70 per cent) for the concept of tax shifting, once it is explained. “People must see the results,” advises Amy Taylor, an economist with Alberta’s Pembina Institute. “There needs to be a whole lot of communication accompanying any tax policy. That’s just good policy design, whatever the policy change is.”

Europe’s experience demonstrates that an environmental tax shift, if implemented gradually, will give consumers and businesses time to adapt, improve efficiencies, seek substitutes and realize the benefits of the balancing effect of the reduction of labour and payroll taxes. Additionally, most tax systems throughout the world have reductions or exemptions for international sectors. These should mitigate most fears of competitive disadvantage.

Recent governments in Canada, according to the National Round Table on the Environment and the Economy’s 2002 report, Toward a Canadian Agenda for Ecological Fiscal Reform: First Steps, have shown a readiness to use the tax system as a primary tool to support certain environmental policy objectives, especially when it is coupled with a reduction in taxation.

Last March, the TD Bank Financial Group issued a report titled Market-based Solutions to Protect the Environment. With its release, many in the business world took notice of the environment-economy relationship for the first time. Beata Caranci, a senior economist with TD Bank Financial Group, explains the intent behind the report: “We wanted to pull together various options to address environmental issues from an economic approach as opposed to regulations and policy. We discovered that while there is no ‘silver-bullet’ environmental policy, what makes economic sense – changing the price structure of pollution to the user – can help achieve environmental goals.”

The report states, “Most economists, including ourselves, believe that any injury inflicted on Canadian jobs, incomes, competitiveness can be mitigated through reliance upon market-based policies that change the price structure to pollution. Doing so serves two purposes. It ensures that polluters pay for the social cost of their actions. And, it alters behaviour when the price for pollution becomes steep. Polluters will seek alternatives, thereby spurring innovation and reducing the need for further, more intrusive and costly environmental policies.”

Daly believes that the report is a step in the right direction. He is resigned, however, to the fact that the concept is slow to be adopted. “The problem is that we’re so hung up on growth as the be-all-end-all that we haven’t realized that that’s not a sustainable situation. We just can’t keep growing.”

Although they may not agree with Daly’s concern about growth, 33 members of the Canadian Council of Chief Executives have climbed aboard the green taxation bandwagon. In an October 1, 2007, declaration issued by some of the country’s largest corporations, including Alcan Inc. and Suncor Energy Inc., these powerful business leaders urged the federal government to use market-based mechanisms, including “environmental taxation,” to tackle climate change. Recognizing that behaviour must change and that the best way to bring this about is through government intervention, the CEOs declared, “Policies aimed at changing behaviour through price signals must deliver positive environmental outcomes in ways that foster an innovative economy and strengthen Canada’s competitive advantage.”

The key to acceptance for a green tax shift policy seems to be the degree of awareness of business and the public of both the concept of a revenue-neutral approach and the environmental problems it seeks to address. The benefits of the action and the dangers of inaction need to be laid out clearly and communicated effectively. And finally, the pace of transition needs to be slow enough for adaptation, yet quick enough for citizens and governments to see results.

That’s a tall order. But as Mike Nickerson, author of the book Life, Money and Illusion, notes, “Few things inspire creativity and ingenuity like avoiding taxes.”